Although the euro is the dominant currency in Europe, a lot of debt in Europe is still denominated in dollars. The dollar being the world’s reserve currency and dollar markets being incredibly liquid, it just makes sense for a lot of companies to do business in dollars. But when a crisis hits and those businesses need dollars, they have to get a hold of dollars somehow. Banks in Europe have a limited supply, and once those dollars are gone, there is no dollar-printing central bank in Europe that can step in. Enter the Federal Reserve.

The Fed sets up liquidity swap lines with the ECB. These swap lines were, for many years, not highly publicized, and not even broken out as a separate category on the Fed’s balance sheet. That is, until the financial crisis hit and the swap lines rose to close to $600 billion. Even since the financial crisis they remain open, are periodically renewed, and occasionally still used, without much publicity.

A swap line is an agreement between the Fed and a foreign central bank to swap currency. For instance, the Fed creates new dollars, the ECB creates new euros, and they agree to exchange them. For the period of the swap, the Fed holds those newly-created euros as an asset, and the ECB loans those dollars out to firms that need dollars to make dollar-denominated payments. Presumably those firms are only in need of short-term dollar financing, and can pay those loans back. When the swap unwinds, the ECB then sends those dollars back to the Fed, the Fed returns the euros to the ECB, and the swap lines are drawn back down to zero. Sounds nice and easy, until there’s a problem.

This drama has been going on for months, so maybe the big players have already minimized their exposure to Greece. Fed Chairman Janet Yellen seemed to downplay the importance of Greece when she was asked about it at her press conference on Wednesday. But what if this is a bigger problem than anyone realizes? I still remember getting called to a staff briefing in mid-2007, almost exactly eight years ago now, where committee staff on the House Financial Services Committee informed us that a little-known unit of Bear Stearns had gotten itself into a little bit of difficulty. Nobody seemed to think it was a terribly important issue, but they were going to monitor things. Little did we know that that incident was the harbinger of the financial crisis. Over the next year things went from bad, to worse, to catastrophic. It started small, but snowballed tremendously.

Paul-Martin has also looked at the Fed's public indifference to the Greek situation:

And while we know that the Fed has probably been paying at least some attention to what is going on in Greece, it has said precious little publicly about its actions. For a central bank that has focused so much in the past on “expectations management” and speaking to assure markets that the Fed is in command, this silence is a little puzzling. It would be nice to know what exactly the Fed is doing in response to events in Greece. Or has Janet Yellen forgotten that she runs the most transparent central bank in the world?

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